Question: Why is the concentrate manufacturing industry so profitable? Explain using a Porter’s Five-Forces Analysis, where you describe what makes each force strong or weak (explain at least two factors per force). Pay particular attention to the force of “Rivalry,” that is, the nature of competition between the two industry leaders as well as the history of their competition.

Answer: Overall, the concentrate manufacturing industry is characterized by high barriers to entry, weak suppliers, weak buyers (and a fragmented final customer base), “smart” rivalry, substitutes that lack many of the attributes of soft drink products, and strong complementors. These dynamics within the concentrate manufacturing industry have resulted in very high industry profits (gross margins of 83% and a pretax profit margin of 35%, see Exhibit 5). Specifically, the forces, which affect industry profits, can be described as follows:

Barriers to Entry:

• Brand equity: Coke and Pepsi have established their brand identity over decades, and both brands have become part of the American culture.• Scale economics of advertising: Not only have Coke and Pepsi built their brands over decades but they also are much more effective at capturing the rewards of their advertising campaigns. For example, Coke spent about $10 million per share point in advertising, whereas 7-Up had to spend $22 million per share point (see Exhibit 2). • Limited shelf space, vending slots, and fountains: Because there is limited shelf space to sell soft drinks, new products would need to replace existing products. Having to replace existing products is much more costly than being able to use open channels. • The franchise system: Bottling is very capital-intensive, and the bottlers have exclusive arrangements with Coke and Pepsi for cola products. It costs roughly $6 billion to build national distribution ($75 million * 80 plants, see p. 3).

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